A year ago, AT&T Corp. was passionately defending its $120 billion investment in cable television systems to Wall Street and the press. Last week, the telecom giant was aggressively selling off some of those assets while squeezing rival AOL Time Warner for maximum return on their troubled partnership.
Clearly, AT&T is looking less like a breakup and more like a sell-off story.
The fact that it wants to play both sides of the valuation game makes it all the more interesting.
For instance, last week AT&T Corp. filed to take public its 25.5 percent stake in Time Warner Entertainment. Many industry analysts and observers say they do not expect AT&T to follow through with an initial public offering. They view the move as an anticipated ploy to budge the stalemated negotiations over the dissolving of the partnership by forcing investment bankers to value the whole to more favorably price AT&T’s piece.
AT&T and Time Warner have been unable to reconcile the valuation of TWE for more than a year.
Analysts estimate that AT&T’s stake is worth anywhere from $9 billion to $12 billion. TWE includes Warner Bros., HBO and most of Time Warner’s cable systems.
Paul Noglows at J.P. Morgan Securities last week valued HBO/Cinemax up to $9 billion, Warner Bros. up to $13.5 billion and the TWE cable systems at about $37 billion, which-when combined with other stakes and assets-gives TWE a total $50 billion enterprise value.
Technically, AT&T last week asked AOL Time Warner to revise the TWE structure in a preliminary step to creating a corporation of which AT&T’s 25.5 percent stake could be spun off to the public.
The latest moves
Considering that the bulk of TWE’s value lies in Time Warner cable systems, AT&T also made several other interesting moves last week.
AT&T Broadband took a giant step last week to quantify current cable system values by announcing the sale of 574,000 subscribers to Charter Communications in a deal valued at $1.79 billion. The combined system swap, stock and cash deal translates into upward of $3,100 per subscriber, or about what AT&T paid for TCI two years ago.
Days earlier, AT&T announced the sale of 840,000 subscribers to Mediacom Communications Corp. for $2.215 billion in cash, or what analysts considered to be a more attractive $2,637 per subscriber.
That certainly doesn’t hurt AT&T’s argument for a better valuation than what AOL Time Warner is placing on TWE.
But there is a whole lot more at stake here than placing a value on cable subscribers. AOL Time Warner and AT&T each are seeking other valuable considerations.
Spinning the spinoff
AOL Time Warner views the TWE negotiations as leverage for AOL to strike an open access ISP deal with AT&T cable systems. Time Warner would like to see content and program deals with AT&T cable.
Although neither company will comment on their negotiations, AOL Time Warner is thought to be willing to buy back the TWE stake it doesn’t own for about $9 billion or $10 billion if AT&T agrees to carry AOL as an Internet service provider on its cable systems under the right conditions, cuts new carriage deals for Time Warner programming, and reaches an agreement to promote its own services over AOL Time Warner media platforms. Sources say AT&T started out negotiations demanding $20 billion for its TWE stake, while Time Warner offered $5 billion.
On the flip side, AT&T has long sought a cable telephony deal with Time Warner cable systems that was promised months before the AOL Time Warner merger was announced. AT&T also could negotiate carriage of other of its Liberty Media Group programming over Time Warner Cable, although Liberty is a major shareholder of AOL Time Warner.
While it looks like AOL Time Warner is holding the upper hand, it would not be in the company’s best interest to have any part of its TWE partnership taken public, since the company is mulling plans to one day spin off all its owned cable systems and stakes into a stand-alone, publicly traded concern.
While a complete cable spinoff would be several years away, the tangled TWE situation is proof that it takes years to unwind some partnerships. AOL Time Warner wants to preserve its freedom to do what it needs to with its assets.
AT&T and AOL Time Warner last week agreed on one thing-to postpone any action on the IPO request until March 15 on the prospects that a deal can be reached. After that, the two companies would appoint investment bankers to set a value for TWE and AT&T’s interest, which already is hindered by being a minority stake. Analysts say a sale would trigger expensive tax situations for both companies.
“This is tantamount to a threat on AT&T’s part to inflict shared pain,” Merrill Lynch analyst Adam Quinton wrote to clients.
But clearly AT&T last week was most determined to demonstrate to government regulators that it is working to satisfy the conditions of its conditional acquisition of MediaOne Group last year.
Even if it successfully spins off Liberty Media Group midyear as planned, AT&T still must address what government regulators say is a sprawling footprint (reaching about 42 percent of the cable market) that exceeds the 30 percent cap on cable subscriber caps. AT&T has until May 1 to comply with the Federal Communications Commission order.
The only way to accomplish that is to sell off some of its own systems or to divest its stakes in other cable operators such as Time Warner and Cablevision. But just how far will AT&T go in that regard?
Some industry experts speculate that we are witnessing the beginning of what could be the complete dismantling of AT&T Broadband by the time it is set to become a stand-alone spinoff next year. In the first phase of that plan, the broadband unit is set to become a publicly traded tracking stock later this year.
Liberty Chairman John Malone himself predicted “a feeding frenzy” for AT&T cable systems, which, due to relatively low cash flow gains even at high multiples, would likely put acquisition costs around $3,500 per subscriber. Out-of-the-blue tender offers are always a possibility.
Left intact, the nation’s largest cable operator could fall under the command of AT&T Corp. Chairman C. Michael Armstrong, who has privately expressed interest in overseeing the broadband holdings after AT&T Corp. has completed its second historic breakup in as many decades by spinning off its broadband, wireless, long-distance and business operations and its Liberty Media tracking stock.
A sum-of-the-parts valuation indicates AT&T Broadband is worth more than the combined AT&T, whose recent market capitalization has hovered between $75 billion and $95 billion based on the trading price of its stock.
Morgan Stanley Dean Witter’s recent analysis valued AT&T Broadband at $66 billion before its recently announced system sales-about the same as AT&T Wireless. That compares with an estimated market capitalization of $41 billion for Comcast Corp., a $27 billion market cap for Cox Communications cable, and nearly $14 billion each for Charter and Cablevision Systems, according to Salomon Smith Barney analyst Niraj Gupta.
AT&T Broadband met or exceeded its revised 2000 year financial performance targets, and many analysts expect improving margins at the unit. But broadband also has made major adjustments such as layoffs, a pullback in advanced digital set-top box orders and a check on new service rollouts and system upgrades.
Like the man said, it’s all about execution.
“It is evident that AT&T may face a bumpy road on the way to an IPO,” Morgan Stanley recently advised clients. “It must first resolve the MediaOne issue and appease FCC requirements. Second, it must show improving operating and financial metrics in 2001,” a report earlier this year stated.
So many of AT&T’s moves can be viewed as power plays in a high-stakes leverage game that ultimately could see the string of cable system acquisitions that changed the face of industry competition unravel the cable player almost as quickly as it was created.
In a statement last week, AT&T Broadband chief Dan S
omers said the Charter deal furthers the company’s large-market-clustering strategy. If sold, those clustered systems will fetch plenty in a market where Comcast, Charter and Cox have proven to be eager, well-funded buyers.
The Charter deal underscores that AT&T is willing to sell for cash, despite the tax ramifications. AT&T will receive only about $1.2 billion in cash proceeds from its $1.79 billion Charter deal.
Charter is a likely buyer of AT&T cable systems in cities such as Chicago, Los Angeles, Atlanta and San Francisco.
There was speculation late last year that Comcast, which lost to AT&T in the battle for MediaOne Group, has talked to AT&T about acquiring some or all of its broadband business, sources say. The companies decline to comment.
A lot also depends on how much of AT&T’s overall corporate debt could eventually be assigned to the AT&T Broadband spinoff. Salomon Smith Barney recently estimated the broadband unit’s total assets and stakes to be worth about $128 billion, and its debt at $12 billion.
Another trading piece that AT&T is likely to use before its complicated restructuring is over is its 28 percent economic interest in Cablevision Systems. Under one common analyst scenario, AT&T could sell its Cablevision stake to Liberty, which in turn could sell the stake back to Cablevision in exchange for its Rainbow Media Holdings programming entity.
There’s always the outside chance that Liberty and Mr. Malone could use their Time Warner leverage to snatch up AT&T’s stake in TWE, which it could swap back to AOL Time Warner for an even larger stake in that newly merged entity. It’s just the kind of classic Malone move Wall Street expects because of the broader leverage it would give to Liberty with AOL Time Warner, by far the most dominant online player.
AT&T’s move to go public with its TWE stake in the private partnership was just a power play in a high-stakes leverage game, but it’s one that eventually could impact the fortunes of a number of media powerhouses.